ISO: P/C Insurers’ Profits and Profitability Rose in First-Quarter 2012, Propelled By Improvement in Underwriting Results

Partially offsetting the improvement in underwriting results, net investment gains — the sum of net investment income and realized capital gains (or losses) on investments — dropped $1.2 billion to $12.3 billion in first-quarter 2012 from $13.6 billion in first-quarter 2011. Also limiting the improvement in insurers’ overall results, insurers’ miscellaneous other income receded to $0.4 billion in first-quarter 2012 from $0.5 billion in first-quarter 2011, and insurers’ federal and foreign income taxes rose to $2.3 billion from $1.8 billion.

Pretax operating income — the sum of net gains or losses on underwriting, net investment income, and miscellaneous other income — grew to $11.8 billion in first-quarter 2012 from $8.6 billion in first-quarter 2011.

Reflecting insurers’ net income after taxes and unrealized capital gains on investments (not included in net income), policyholders’ surplus — insurers’ net worth measured according to Statutory Accounting Principles — increased $20.4 billion to a record-high $570.7 billion at March 31, 2012, from $550.3 billion at December 31, 2011.

The 7.2 percent annualized rate of return for first-quarter 2012 is insurers’ highest first-quarter annualized rate of return since the 13.3 percent for first-quarter 2007. Since the start of ISO’s quarterly data in 1986, insurers’ first-quarter annualized rate of return has ranged from as low as negative 2.6 percent in 1994 to as high as 17.9 percent in 2005 and has averaged 10 percent.

The figures are consolidated estimates for all private property/casualty insurers based on reports accounting for at least 96 percent of all business written by private U.S. property/casualty insurers.

“The insurance industry’s record-high $570.7 billion in policyholders’ surplus as of March 31 is a testament to the resilience of property/casualty insurers throughout the financial crisis and the strength and safety of our commitment to policyholders,” said Robert Gordon, PCI’s senior vice president for policy development and research. “The $20.4 billion increase in policyholders’ surplus in first-quarter 2012 underscores that insurers are strong, well capitalized, and well prepared to pay future claims. Policyholders and regulators can rely on the insurance industry to fulfill its obligations when catastrophes strike, even if the economy remains difficult.”   

“The 99 percent combined ratio for first-quarter 2012 is the best first-quarter underwriting result since the 91.6 percent combined ratio for first-quarter 2007. The improvement in underwriting results is especially welcome given the toll that long-term declines in interest rates and investment leverage have taken on insurers’ ability to use investment earnings to balance underwriting losses,” said Michael R. Murray, assistant vice president for financial analysis at ISO. “Based on daily data since the start of 1962, the yield on ten-year Treasury notes fell from a record-high 15.84 percent on September 30, 1981, to a record-low 1.47 percent on June 1, 2012, and has changed little since. Reflecting the high interest rates of the 1980s and insurers’ investment leverage at the time, insurers’ overall rate of return during the decade averaged 10.3 percent, even though the combined ratio averaged 109.3 percent. Because of today’s interest rates and investment leverage, insurers’ 7.2 percent annualized overall rate of return for first-quarter 2012 was a full 3 percentage points less than their average rate of return during the 1980s, even though the 99 percent combined ratio for first-quarter 2012 was more than 10 percentage points better than the average combined ratio during the 1980s.”

The property/casualty industry’s 7.2 percent annualized rate of return for first-quarter 2012 was the net result of negative rates of return for mortgage and financial guaranty insurers and single-digit rates of return for other insurers. ISO estimates that mortgage and financial guaranty insurers’ annualized rate of return on average surplus deteriorated to negative 38.1 percent in first-quarter 2012 from negative 17.7 percent in first-quarter 2011. Excluding mortgage and financial guaranty insurers, the industry’s annualized rate of return climbed to 8.2 percent in first-quarter 2012 from 6.1 percent in first-quarter 2011.

Underwriting Results

Underwriting gains (or losses) equal earned premiums minus LLAE, other underwriting expenses, and dividends to policyholders. Net losses on underwriting shrank $4.3 billion to $0.2 billion in first-quarter 2012 from $4.5 billion in first-quarter 2011, as premiums rose and LLAE declined.

Net written premiums increased $3.3 billion, or 3.1 percent, to $112.4 billion in first-quarter 2012 from $109 billion in first-quarter 2011, as net earned premiums rose $2.7 billion, or 2.6 percent, to $107.9 billion from $105.2 billion.

Net LLAE (after reinsurance recoveries) dropped $3.1 billion, or 4 percent, to $75.6 billion in first-quarter 2012 from $78.7 billion in first-quarter 2011.

Partially offsetting the growth in premiums and the decline in LLAE, other underwriting expenses — primarily acquisition expenses; expenses associated with underwriting, pricing, and servicing insurance policies; and premium taxes — rose $1.5 billion, or 5 percent, to $32 billion in first-quarter 2012 from $30.5 billion in first-quarter 2011. In addition, dividends to policyholders rose 12.8 percent in first-quarter 2012 to $0.5 billion.

The decrease in overall LLAE reflects the decline in catastrophe losses. ISO estimates that private insurers’ net LLAE from catastrophes fell $3.2 billion to $3.4 billion in first-quarter 2012 from $6.6 billion in first-quarter 2011. Other net LLAE was virtually unchanged at $72.2 billion in both first-quarter 2012 and first-quarter 2011.

U.S. insurers’ $3.4 billion in net LLAE from catastrophes in first-quarter 2012 is primarily attributable to catastrophes that struck the United States. Though estimating U.S. insurers’ LLAE from catastrophes that struck elsewhere around the globe is difficult, the available information suggests that U.S. insurers’ net LLAE from catastrophes overseas dropped to near nil in first-quarter 2012 from between $3 billion and $5 billion in first-quarter 2011.

According to ISO’s Property Claim Services (PCS) unit, catastrophes striking the United States in first-quarter 2012 caused $3.4 billion in direct insured losses (before reinsurance recoveries) for all insurers (including residual market insurers and foreign insurers and reinsurers), up $1.2 billion compared with the $2.2 billion in direct insured losses caused by catastrophes striking the United States in first-quarter 2011.

Reflecting the growth in premiums and the decline in LLAE, the combined ratio improved by 4.2 percentage points to 99 percent in first-quarter 2012 from 103.3 percent in first-quarter 2011.

“The drop in net LLAE from catastrophes accounts for the bulk of the improvement in underwriting results in first-quarter 2012,” said Gordon. “If net LLAE from catastrophes remained at the same level experienced in first-quarter 2011, the combined ratio would have improved by only 1.3 percentage points to 102 percent instead of improving by 4.2 percentage points.”

The $0.2 billion in net losses on underwriting in first-quarter 2012 amounted to 0.2 percent of the $107.9 billion in net earned premiums during the quarter, whereas the $4.5 billion in net losses on underwriting in first-quarter 2011 amounted to 4.3 percent of the $105.2 billion in net earned premiums during that quarter.

Based on new information and updated estimates for the ultimate cost of old claims from prior accident years, insurers’ results for first-quarter 2012 benefited from $3.9 billion in favorable development of LLAE reserves, with the amount of favorable development dwindling from $4.6 billion in first-quarter 2011. Excluding development of LLAE reserves, net LLAE fell $3.8 billion, or 4.6 percent, to $79.5 billion in first-quarter 2012 from $83.3 billion in first-quarter 2011, and the combined ratio improved by 4.9 percentage points to 102.7 percent from 107.6 percent.

Mortgage and financial guaranty insurers continued to suffer disproportionate losses on underwriting, with their combined ratio deteriorating by 40.5 percentage points to 217.5 percent for first-quarter 2012 from 176.9 percent for first-quarter 2011. Mortgage and financial guaranty insurers’ combined ratio for first-quarter 2012 was 119.9 percentage points worse than the 97.6 percent combined ratio for all other insurers.

Mortgage and financial guaranty insurers’ net written premiums fell 17 percent to $1.1 billion for first-quarter 2012 from $1.3 billion for first-quarter 2011. Their net earned premiums fell 14.2 percent to $1.3 billion in first-quarter 2012 from $1.5 billion a year earlier. Also contributing to the 40.5-percentage-point deterioration in mortgage and financial guaranty insurers’ combined ratio, their loss and loss adjustment expenses climbed 6.9 percent to $2.4 billion in first-quarter 2012 from $2.3 billion in first-quarter 2011. Conversely, mortgage and financial guaranty insurers’ other underwriting expenses fell 5.8 percent to $0.3 billion in first-quarter 2012 from $0.4 billion a year earlier.

Excluding mortgage and financial guaranty insurers, industry net written premiums rose 3.3 percent in first-quarter 2012 to $111.3 billion, net earned premiums increased 2.8 percent to $106.6 billion, LLAE declined 4.3 percent to $73.2 billion, other underwriting expenses grew 5.1 percent to $31.7 billion, and dividends to policyholders rose 12.8 percent to $0.5 billion. As a result, the combined ratio for the industry excluding mortgage and financial guaranty insurers dropped 4.6 percentage points to 97.6 for first-quarter 2012 from 102.2 percent for first-quarter 2011.

“Growth in overall net written premiums slowed to 3.1 percent in first-quarter 2012 from 3.5 percent in first-quarter 2011. Premium growth also slowed compared with the growth rates for the last two quarters of 2011, receding to 3.1 percent in first-quarter 2012 from 3.8 percent in fourth-quarter 2011 and 4.1 percent in third-quarter 2011. But growth didn’t slow for all sectors of the insurance industry,” said Murray. “Excluding mortgage and financial guaranty insurers, premium growth for insurers writing predominantly commercial lines climbed to 4.7 percent in first-quarter 2012 from 3.4 percent in first-quarter 2011. Conversely, premium growth for insurers writing a more balanced mix of commercial and personal lines slipped to 2.8 percent in first-quarter 2012 from 3 percent in first-quarter 2011, as premium growth for insurers writing predominantly personal lines slowed to 2.5 percent from 3.9 percent.”

“The slowing in overall premium growth reflects changes in the economy. For example, growth versus year-ago levels in private sector wages and salaries slipped to 4.2 percent in first-quarter 2012 from 5.4 percent in first-quarter 2011, as growth in retail sales, including food services, dropped to 6.2 percent from 8.1 percent,” said Gordon. “With the seasonally adjusted unemployment rate at a stubbornly high 8.2 percent in May and other indicators also showing that economic conditions remain challenging, consumers and businesses remain under pressure to control their expenses, including their spending on insurance.”

“Differences in market conditions likely contributed to differences in premium growth by sector,” said Murray. “Data from the Council of Insurance Agents and Brokers market survey indicates a turn in commercial insurance markets starting in third-quarter 2011, with commercial insurance rates reportedly rising 4.4 percent in first-quarter 2012 after falling 2.9 percent in first-quarter 2011. The 4.4 percent increase in commercial insurance rates in first-quarter 2012 compares with a 2.9 percent increase in the Consumer Price Index for Motor Vehicle Insurance and a 2.8 percent increase in the Consumer Price Index for Tenants’ and Household Insurance.”

“Despite slower growth in overall net written premiums, underwriting profitability improved for all three major sectors of the industry,” said Gordon. “Excluding mortgage and financial guaranty insurers, commercial lines insurers’ combined ratio dropped 10.8 percentage points to 97.6 percent in first-quarter 2012, as balanced insurers’ combined ratio receded 0.7 percentage points to 98.1 percent and personal lines insurers’ combined ratio fell 2.1 percentage points to 97.2 percent.”

Investment Results

Insurers’ net investment income — primarily dividends from stocks and interest on bonds — fell 7.5 percent to $11.7 billion in first-quarter 2012 from $12.6 billion in first-quarter 2011. Insurers’ realized capital gains on investments declined $0.3 billion to $0.7 billion in first-quarter 2012 from $1 billion a year earlier. Combining net investment income and realized capital gains, net investment gains dropped $1.2 billion, or 9.2 percent, to $12.3 billion for first-quarter 2012 from $13.6 billion for first-quarter 2011.

“The decline in insurers’ investment income reflects declines in market yields, with the annualized yield on insurers’ investments falling to 3.6 percent in first-quarter 2012 from 3.9 percent in first-quarter 2011, as the average yield on ten-year U.S. Treasury notes dropped to 2 percent from 3.5 percent,” said Murray. “Insurers’ average holdings of cash and invested assets — the assets on which insurers earn investment income — actually rose 0.2 percent in first-quarter 2012 compared with their level a year earlier.”

Combining the $0.7 billion in realized capital gains in first-quarter 2012 with $13.7 billion in unrealized capital gains during the period, insurers posted $14.4 billion in overall capital gains for first-quarter 2012 — up $9.5 billion from the $4.9 billion in overall capital gains on investments for first-quarter 2011. Insurers’ overall capital gains would have risen a bit more if not for an uptick in realized capital losses on impaired investments, which increased to $1.1 billion in first-quarter 2012 from $0.8 billion in first-quarter 2011.

“Insurers’ $14.4 billion in overall capital gains in first-quarter 2012 reflects developments in financial markets, with the Dow Jones Industrial Average rising 8.1 percent during the quarter as the New York Stock Exchange Composite rose 9.8 percent, the S&P 500 increased 12 percent, and the Nasdaq Composite climbed 18.7 percent,” said Gordon. “Though all four of these major stock indexes fell from March 31 to June 25, they were still showing net gains year to date — suggesting insurers’ results for six-months 2012 may continue to benefit from capital gains, albeit less so than insurers’ results for first-quarter 2012.”

Pretax Operating Income

Pretax operating income climbed $3.2 billion, or 36.6 percent, to $11.8 billion for first-quarter 2012 from $8.6 billion for first-quarter 2011. The $3.2 billion increase in operating income was the net result of the $4.3 billion decline in net losses on underwriting, the $0.9 billion drop in net investment income, and the $0.2 billion decrease in miscellaneous other income.

Mortgage and financial guaranty insurers’ operating income deteriorated to negative $1.2 billion in first-quarter 2012 from negative $0.7 billion in first-quarter 2011. Excluding mortgage and financial guaranty insurers, the insurance industry’s operating income climbed $3.6 billion, or 38.6 percent, to $13 billion for first-quarter 2012 from $9.4 billion for first-quarter 2011.

Net Income after Taxes

Combining operating income, realized capital gains (losses), and federal and foreign income taxes, the insurance industry’s net income after taxes for first-quarter 2012 totaled $10.1 billion — up $2.3 billion, or 29.6 percent, from $7.8 billion for first-quarter 2011. The $2.3 billion increase in net income was the net result of the $3.2 billion increase in operating income, the $0.3 billion decrease in realized capital gains, and the $0.5 billion increase in federal and foreign income taxes.

Mortgage and financial guaranty insurers’ net income after taxes fell to negative $1.1 billion for first-quarter 2012 from negative $0.5 billion for first-quarter 2011. Excluding mortgage and financial guaranty insurers, the insurance industry’s net income after taxes rose $2.8 billion to $11.2 billion for first-quarter 2012 from $8.4 billion for first-quarter 2011.

Policyholders’ Surplus

Policyholders’ surplus climbed $20.4 billion, or 3.7 percent, to $570.7 billion as of March 31, 2012, from $550.3 billion at year-end 2011. Additions to surplus in first-quarter 2012 included insurers’ $10.1 billion in net income after taxes, $13.7 billion in unrealized capital gains on investments (not included in net income), $0.3 billion in new funds paid in, and $2.7 billion in miscellaneous other changes in surplus. Those additions were partially offset by $6.5 billion in dividends to shareholders.

Insurers’ $13.7 billion in unrealized capital gains on investments in first-quarter 2012 was more than three times insurers’ $3.9 billion in unrealized capital gains in first-quarter 2011.

The $0.3 billion in new funds paid in during first-quarter 2012 was down from $1.5 billion in first-quarter 2011.

The $2.7 billion in miscellaneous additions to surplus in first-quarter 2012 compares with $0.2 billion in miscellaneous charges against surplus in first-quarter 2011.

Dividends to shareholders rose to $6.5 billion in first-quarter 2012 from $5.7 billion in first-quarter 2011.

Mortgage and financial guaranty insurers’ surplus fell to $11.1 billion as of March 31, 2012, from $11.4 billion at year-end 2011. Excluding mortgage and financial guaranty insurers, industry surplus increased $20.7 billion to $559.6 billion as of March 31, 2012, from $538.9 billion as of December 31, 2011.

Because the state insurance guaranty fund system does not protect those with mortgage or financial guaranty insurance claims in the event of insolvency, payouts on claims against individual mortgage and financial guaranty insurers are essentially limited by each mortgage and financial guaranty insurer’s own ability to pay. For this reason, ISO edited the data for some individual mortgage and financial guaranty insurers to eliminate liabilities in excess of their assets, restating surplus for the insurance industry overall and the mortgage and financial guaranty insurance sector in a manner that more correctly reflects the sector’s ability to absorb new losses.

“Using 12-month trailing premiums, the premium-to-surplus ratio as of March 31, 2012, was 0.77 — only slightly higher than the record-low 0.76 for full-year 2010 based on annual data extending back to 1959 and only a little more than half the 1.48 average premium-to-surplus ratio for the 53 years from 1959 to 2011. Similarly, the ratio of loss and loss adjustment expense reserves to surplus as of March 31, 2012, was 1.00 — far below the 1.41 average LLAE-reserves-to-surplus ratio for the past 53 years,” said Murray. “To the extent that these leverage ratios shed light on the amount of risk supported by each dollar of surplus, insurers appear to be extremely well capitalized at this point. To the extent that these same leverage ratios shed light on insurers’ capacity utilization, they also suggest that excess capacity in competitive markets may continue to limit rate increases and premium growth absent a significant capital event such as a major catastrophe or downturn in financial markets.”

About ISO

Since 1971, ISO has been a leading source of information about property/casualty insurance risk. For a broad spectrum of commercial and personal lines of insurance, the company provides statistical, actuarial, underwriting, and claims information; policy language; information about specific locations; fraud identification tools; and technical services. ISO serves insurers, reinsurers, agents and brokers, insurance regulators, risk managers, and other participants in the property/casualty insurance marketplace. ISO is a member of the Verisk Insurance Solutions group at Verisk Analytics (Nasdaq:VRSK). For more information, visit www.iso.com and www.verisk.com.

About PCI

PCI is composed of more than 1,000 member companies, representing the broadest cross-section of insurers of any national trade association. PCI members write over $179 billion in annual premium, 38.3 percent of the nation’s property casualty insurance. Member companies write 44.3 percent of the U.S. automobile insurance market, 31.6 percent of the homeowners market, 36.3 percent of the commercial property and liability market, and 42.6 percent of the private workers compensation market. For more information, visit www.pciaa.net.